9/29/2008 @ 12:00AM

The Hoover Analogy Flunks

The Congress appears determined to let Treasury Secretary Paulson do some speculative trading in mortgage-backed securities with $700 billion of borrowed money. Reasonable people have reasonable arguments for and against this idea. But unreasonable people prefer unreasonable arguments, like saying we’re in for another Great Depression unless we “do something” right away.

The silliest argument for the plan is to compare our current situation to the Crash of 1929, and then conclude that it was simply government inaction that caused the Great Depression. Congressman Chuck Schumer has repeatedly compared the current situation to the stock market crash of 1929 and blamed the Bush team–the most interventionist administration since Richard Nixon–of “doing nothing” just like Herbert Hoover. Several journalists such as Chris Matthews of MSNBC’s Hardball have tried to foist some sort of Hoover analogy on both President Bush and Sen. John McCain.

In reality, the Crash of September 1929 had nothing to do with bank runs and failures, which began in October 1930. Besides, we have had little more than a dozen bank failures this year compared with more than 5,000 in the 1930s, and nearly 3,000 in the 1980s.

Far from “doing nothing,” Herbert Hoover initiated a violent implosion of world trade and prices by signing the infamous Smoot-Hawley tariff on June 17, 1930. The Commercial and Financial Chronicle then observed “a renewed violent collapse of the stock market.” Benjamin Anderson, the chief economist for Citibank at the time, called the draconian tariffs Hoover’s “crowning financial folly” and explained why:

“In a world staggering under a load of international debt, which could be carried only if countries under pressure could produce goods and export them to their creditors, we, the great creditor nation of the world, with tariffs already too high, raised our tariffs again … Protectionism ran wild over the world. Markets were cut off. Trade lines were narrowed. Unemployment in the export industries all over the world grew with great rapidity, and the prices of export commodities … dropped with ominous rapidity.”

In short, Hoover’s rush to “do something” soon proved extremely dangerous to the U.S. and world economy. Hoover’s trade policy seems like an extreme version of what Barack Obama proposes to do if elected. The same is true of Obama’s Hooveresque vision of raising corporate taxes by 25% (in the guise of closing loopholes and tax havens), and of trying to raise income, payroll and investment tax rates for those who already bear most of the federal tax burden.

At the end of 1931, President Herbert Hoover asked for a temporary tax increase, saying it was “indispensable to the restoration of confidence.” Congress went along in June 1932, raising the top income tax rate from 25% to 63% and quadrupling the lowest tax rate from 1.1% to 4%. That didn’t help confidence or the Treasury. Revenue from the individual income tax dropped from $834 million in 1931 to $427 million in 1932 and $353 million in 1933.

It was Hoover, not FDR, who pushed for the biggest increase in marginal tax rates before or since. And it was Hoover, not FDR, who created the Reconstruction Finance Corporation to make lavish loans to banks and businesses–just as the Bush administration is doing today.

Herbert Hoover said “the economy is fundamentally sound” in 1931–far too late to make any sense. John McCain said something quite different in Jacksonville, Fla., on Sept. 15 in an effort to be a calming voice during a one-day stock slump (the market ended up that week). He said, “There’s been tremendous turmoil in our financial markets and Wall Street and … people are frightened by these events. Our economy, I think, still the fundamentals of our economy are strong. But these are very, very difficult times. And I promise you, we will never put America in this position again. We will clean up Wall Street. We will reform government.”

In marked contrast to the world of high finance, the fundamentals of the real economy do appear relatively strong. The U.S. has not yet experienced a negative real gross domestic product figure this year, yet second-quarter GDP was down 1.2% in France, 2% in Germany, 3% in Japan and 5.5%-6% in Hong Kong and Singapore.

When it comes to election-year rhetoric from amateur historians like Rep. Schumer, however, the U.S. appears quite weak indeed. Democrats advocating higher tax rates and tariffs in difficult times should not throw Herbert Hoover’s name around so carelessly.

Alan Reynolds is a senior fellow with the Cato Institute and the author ofIncome and Wealth.